What are contra funds?

As the name suggests, these funds take a contrarian view on equities. The fund manager picks underperforming stocks or sectors, which are likely to perform well in the long run, at cheap valuations. For instance, experts held a contrarian view on telecom stocks for a two-year period.

These funds are mostly a part of the equity-diversified category. The difference lies in the style of investing. For instance, a strengthening rupee strains the margins of IT companies as their major business comes from the US. But, a contra fund manager would pick IT stocks and wait for the rupee to weaken.

ING Contra, Kotak Contra, L&T Contra, Magnum Contra, Religare Contra, Tata Contra and UTI Contra are some known contra funds. These have returned between 8.5 and 14 per cent over two years. Tata Contra and Religare Contra have given exceptional returns of over 20 per cent each. In the same period, the Bombay Stock Exchange’s sensitive index, or the Sensex, and largecap equity-diversified funds have returned 12 and 13 per cent, respectively, according to mutual fund rating agency, Value Research.

In the last five years, contra funds have returned around 8.5-13 per cent.

Who should invest in these funds?
Financial planners suggest that individuals should look at this category as a diversification opportunity, that is, only after they have invested a significant portion of their mutual fund portfolio in regular largecap, equity diversified funds. Even then, invest only 10-15 per cent of your portfolio in these funds.

Remember, these funds invest in ‘out-of-flavour’ themes and, hence, may not perform in the short term. Therefore, only those with an investment horizon of about up to five years should consider this option.

Further, these funds are riskier than regular largecap funds. The fund manager’s call can go completely awry. Analyse your risk appetite before investing.

How to choose a contra fund?
Unlike equity-diversified funds, you cannot base your investment decisions on the returns given by contra funds. You must look at the mandate of the fund and the themes it invests in. If you agree with the fund manager’s outlook, you should invest considering the expected returns. The other thumbrule is investing in funds that have been around for long and not in new fund offers.

How are these funds taxed?
If you sell the units in less than a year, the returns are taxed at a flat rate of 15 per cent. If you hold them for over a year, the gains will be long-term and, hence, tax-free.

A securities transaction tax of 0.25 per cent is levied on all, while investing as well as on redemption.